In a surprise decision,the Reserve Bank today cut the benchmark interest rate for first time in three years by 0.5 per cent to provide relief to borrowers and revive the sagging economic growth.

Unveiling the annual credit policy here,the RBI reduced the short-term lending (Repo) rates to eight per cent from 8.5 per cent.Bank rate is cut to nine per cent from 9.5 per cent Banks,led by the State Bank of India,immediately announced they would substantially cut the lending rates that would benefit auto,home and personal loan borrowers.

However,it may not be a good news for depositors,who will earn lesser interest rates.

“The reduction in the repo rate is based on an assessment of growth having slowed… which in turn,is contributing to moderation in core inflation,RBI Governor D Subbarao said.

But,he cautioned,in view of persisting upside risks to inflation,it may not be possible to cut rates further.

SBI Chairman Pratip Chaudhury said his bank would “do a comprehensive cut” in lending rates. Asked if there will be substantial reduction in interest rates,he said,”Yes it will be. “Several other banks too said they would go in for the rate cuts and reduce deposit rates.

Besides,the RBI has directed the banks not to insist on a minimum balance on saving bank accounts,and not to levy charges on prepayment of loans.

Finance Minister Pranab Mukherjee said the RBI policy would boost investment sentiment. The government will take more steps in this direction,he added.

In its macro-economic assessment,the RBI projected the economic growth rate of 7.3 per cent and expects inflation to be 6.5 per cent by March,2013.

The industry and the stock market,which was expecting 0.25 per cent cut in the RBI interest rates,welcomed surprise decision.

Following the policy announcement,the BSE Sensex gained 207 points to close at 17,358 on widespread buying after RBI opted for bigger-than-expected rate cut.

Besides reducing interest rate,the RBI has also done away with pre-payment charges on home loan taken on floating rate of interest and tightened the norms for bank lending to gold finance companies. It kept the Cash Reserve Ratio (CRR),the amount which banks are required to keep in cash with the central bank,at 4.75 per cent.

On the impact of the policy on interest rates,Canara Bank Executive Director A K Gupta said,”the RBI has taken a bold step. The reduction in the policy rate by RBI would translate into lowering of interest rates. Base rates are expected to come down by about 25 basis points”.

IDBI Bank Executive Director R K Bansal said the monetary action will help boost growth and RBI has given a strong message to cut interest rates.

According to Indian Overseas Bank Executive Director A K Bansal,both deposit and advances rates would come down.

The likely cut in interest rates by banks will have positive implications for car and real estate companies which expect improvement in demand.

Describing the RBI’s decision as “good”,Maruti Suzuki India Managing Executive Officer Marketing and Sales Mayank Pareek said: “It will spur growth. I hope that banks will reduce lending rates. This should be good for auto industry.”

Expressing similar views,Honda Siel Cars India Senior Vice-President (Marketing) Jnaneshwar Sen said: “Now we are waiting for the banks to pass on this benefit to customers. If banks cut interest rates on car loans,it will definitely spur growth in the market.”

India Inc also welcomed the RBI rate cut saying it would boost investments in the country.

“The repo rate cut will provide the boost to investment as well as send a strong signal that turning around growth is of pivotal importance,” CII Director General Chandrajit Banerjee said.

According to Finance Minister Pranab Mukherjee,”the monetary policy announcements should help in investment revival and contribute to strengthening of business sentiments. In the coming weeks we will take some additional steps to further reinforce focus on growth.”

Pointing to hardening of inflation,he said,”this is a cause for some concern. We intent to continuously monitor the situation and take the required steps to manage the short term supply constraint for those food items which contribute inflation.”

Pointing out that there is upside risk to inflation,the RBI said there is a need to check subsidies and raise prices of administered petroleum products to arrest fiscal slippages.

“Overall from the perspective of vulnerabilities emerging from the fiscal and current account deficits,it is imperative for macroeconomic stability that administered prices of petroleum products are increased to reflect their true costs of production,” it said

While petrol prices are market-linked,the government fixes the rates of LPG,kerosene and diesel,which results in a large budgetary expenditure on subsidies.

During the fiscal,RBI expects credit to grow by 17 per cent,and deposits by 16 per cent.